The FDR Framework is the backbone for a 21st century financial system. Under this framework, governments ensure that every market participant has access to all the useful, relevant information in an appropriate, timely manner. Market participants have an incentive to analyze this data because they are responsible for all gains and losses.

Thursday, June 28, 2012

A Telegraph article focuses on the real issue with the Libor interest rate scandal: five years after the financial crisis began we have still not implemented common sense reforms like requiring valuation transparency in all the opaque corners of the financial system.

Requiring valuation transparency should be a no brainer given that our financial markets are based on the philosophy of disclosure. Specifically, it is the government's job to ensure that all market participants have access to all the useful, relevant information in an appropriate, timely manner to make a fully informed investment decision.

Useful, relevant information is not restricted to the last price a security traded at. As intended by the FDR administration, it is the information needed to independently assess the value of a security in the absence of price.

The FDR administration recognized that the investment process goes as follows: independently assess the value of the security, look at price shown by Wall Street, and then and only then make a portfolio management decision to buy, hold or sell.

Regular readers know that it was the opaque areas of the financial system that bankers exploited and that failed when the financial crisis began. Opaque areas included both banks and structured finance securities. The former saw the interbank lending market freeze and the latter saw a collapse in both primary issuance and in use as security for repurchase agreements.

The Libor interest rate is another example of an opaque area of the financial system that was exploited by bankers for their benefit.

Mr Vicary-Smith [chief executive of Which?] said that four years on from the financial crisis there is “no evidence that the worst culture and practices in banking have changed at all”.

He said: “Once again another scandal highlights the corruption at the heart of our banking system, with no individuals held to account and senior bankers behaving as if they are above the law.....

Mr Vicary-Smith accused the British Bankers Association (BBA), which represents the banking industry, of being silent on the matter.

“The BBA, which is so visible when it campaigns against banking reform yet today is silent, must not escape scrutiny for its role in managing the Libor scheme. It is surely time for this crucial function to be handed to an accountable authority capable of ensuring the information provided by banks is robust,” he said.

It is already the government's role to ensure the information provided by banks is robust.

The question is why wasn't the information robust?

Meanwhile Brendan Barber, the general secretary of the TUC, said that regulatory failure is behind the crisis.

“Barclay’s rigging of interest rates, which other banks may well have colluded with, shows how light-touch regulation in the City has allowed dodgy practices and reckless behaviour to flourish unchecked.

A potential answer is that the regulators did not do their job.

“Directors’ attempts to palm the crisis off with a few lost bonuses is insulting to taxpayers who have paid so heavily for bankers’ incompetence. This scandal needs a tougher response from the bank and the government to stop further abuses from taking place,” said Mr Barber.

The much tougher response would be to enforce those draconian disclosure requirements that are at the heart of our financial system and are a necessary for the financial system to function properly.

About this blog

A blog on all things about Wall Street, global finance and any attempt to regulate it. In short, the future of banking and the global financial system.

This blog will be used to discuss and debate issues not just for specialists, but for anyone who cares about creating good policies in these areas.

At the heart of this blog is the FDR Framework which uses 21st century information technology to combine a philosophy of disclosure with the practice of caveat emptor (buyer beware).

Under the FDR Framework, governments are responsible for ensuring that all market participants have access to all the useful, relevant information in an appropriate, timely manner. Market participants have an incentive to use this data because under caveat emptor they are responsible for all gains and losses on their investments; in short, Trust but Verify.

This blog uses the FDR Framework to explain the cause of the financial crisis and to evaluate financial reforms like the ABS Data Warehouse.